Dry-Bulk Shipping Slips Underwater

Without demand for goods from Europe and the U.S., emerging markets are having trouble sustaining growth, and dry-bulk shipping companies, which move commodities such as grain and metals, are getting hurt. China is slashing steel production, for example. Letters of credit, which keep cargo moving, are almost nonexistent.

At the same time, the net asset values of dry-bulk ships have fallen roughly 50% in the last four months, but outstanding loans for ships and contracts remained static, tearing shippers and their creditors. None of this is a surprise to investors. In the last six months, dry-bulk shipping stocks tumbled 74.8% (see “High And Dry In Dry Bulk”).

“The whole thing is eerily similar to the subprime fiasco,” says Jeffrey Landsberg, a freight-options broker at Imarex, a shipping-related derivatives exchange. “No one imagined home prices could come down, but as the value of this asset did come down, loans were unable to be repaid.”

Look for more defaults on long-term charter contracts. Recently, Athens, Greece-based
Star Bulk Carriers
lost a $106,500 long-term contract after Ukraine-based Industrial Carriers filed for bankruptcy. Then, on Tuesday, investors learned that
Britannia Bulk Holdings
, which had its initial public offering in June at $15 per share, will post a whopping third-quarter loss and that it is considering alternatives such as liquidation or bankruptcy protection.

Britannia said there was a “very high risk” of default on its loan facility with
Lloyds TSB
and Nordea Bank Denmark. The company is in discussions with lenders but said there can “be no assurance that a resolution of the issues surrounding the facility will be reached.”

Landsberg said Britannia had three main problems: unhedged forward-freight agreements, inadequate fuel hedges and the inability to pay back $180 million in loans as the value of five of its bulk vessels, used to secure those loans, sank.

The Britannia default is just the start. The shipping industry, like the subprime mortgage market, is interconnected. Many analysts believe large ship financiers, such as
Royal Bank of Scotland
, Norway’s DnB NOR,
HSBC
and Sweden’s Nordea Bank, will try to work with shipping companies instead of foreclosing on ships because of a breach of covenants. But there is a “breaking point”–and with banks desperate for capital, foreclosures may be the only option in some cases.

Shipowners are already anchoring their vessels, as rates on Cape-size ships, the largest vessels, are trading at break-even or below operating costs. They ended last week at a six-year low below $8,500 per day. And as net asset values on new ships continue to fall, more owners are likely to avoid taking on the cost of new ships, even ones they’ve ordered, giving up their 10% deposits.

Worth watching: Excel Maritime Holdings. Thirty percent of its ships are not on long-term contracts and are subject to volatile daily rates. The company’s total debt soared 304.5% over the prior year.

Genco Shipping & Trading
has an aggressive building program, with six Cape-size vessels set for delivery through 2009. One Cape-size vessel is expected to be delivered in the fourth quarter of 2008, and three smaller Handy-size vessels are expected to be delivered in the fourth quarter. These vessels are already built and paid for. Meanwhile, Genco’s debt is among the highest in the industry, at $989.3 million.

Rival
DryShips
looks particularly vulnerable. Even with spot rates plummeting, DryShips announced earlier this month plans to take over nine Cape-size ships that had been owned by DryShips Chief Executive George Economou’s privately held Cardiff Marine (see “Curious George”).

DryShips said it will pay $689.6 million in exchange for the shares of the single-purpose companies that owned the ships. It will also assume $216.3 million of existing debt and $262 million in remaining shipyard installments. With more than 50% of its ships spot-exposed and its total debt increasing 131.3% over the prior year, DryShips is ailing. The company did not return phone calls seeking comment.

Eagle Bulk Shipping
also has more than 30 new builds coming on line between 2008 and 2012, with two of the 30 being delivered before the end of the year. It also has substantial debt, which increased 11.5% over the prior year to $665.7 million.

“This whole thing is looking pretty scary,” says Landsberg. “Cash-rich owners are looking pretty good at the moment. More leveraged players are in trouble.”

Clarification: An earlier version of this story confused the object of analysis by Jeffrey Landsberg, a freight-options broker at Imarex. When he was discussing problems a firm had with unhedged forward-freight agreements, inadequate fuel hedges and the inability to pay back some loans, he was referring to Britannia Bulk Holdings, not Star Bulk Carriers.